RBI shifts to consumer prices for valuing rupee

The Reserve Bank of India (RBI) will start using consumer prices instead of wholesale prices as the inflation benchmark for valuing the rupee against other currencies, a move that could make it less tolerant of appreciation by the rupee.

The rupee's value is set by the market, but the apex bank tracks its relative value, known as the real effective exchange rate (REER), as a guidepost. Although the RBI not have a target exchange rate, it does intervene in the market to ease volatility.

 

Late on Friday, the apex bank said in a statement that the consumer price index would now be used to arrive at the rupee's value on a REER basis. That is consistent with its move to make the consumer price index (CPI) the main inflation gauge, in a shift away from the wholesale price index.

 

Annual CPI inflation in February was 8.10 per cent, compared with 4.68 per cent for the wholesale price index (WPI). The switch to CPI means the rupee was overvalued by around 4 per cent in March, based on what the apex bank said was a REER of 104.20. 

 

A REER of 100 would mean the currency is fairly valued.

 

Previously, the rupee was undervalued at a REER of 89.46 in March, based on the WPI inflation benchmark.

 

The rupee has risen 2.8 per cent in 2014. It closed at 60.08 to the dollar on Friday. Rupee appreciation has prompted the apex bank to buy dollars in the market, increasing India's foreign exchange reserves by $5 billion in the week ended March 28 - the biggest weekly gain in 4 months.

 

Copyright @ Thomson Reuters 2014